
Antitrust Concerns May Foil CVS Expansion Via RiteAid-Walgreens Concessions
As investors await news of antitrust divestitures that will likely come from Walgreens Boots Alliance's (WBA) - Get Report acquisition of Rite Aid (RAD) - Get Report , analysts speculate that fellow pharmaceutical giant (CVS) - Get Report could look to buy some of the divested pharmacies.
"The conventional wisdom holds that the number of stores that needs to be divested is anywhere from 500-1,000 stores," analyst Steven Halper of FBR Capital Markets said in an interview. "Again it's all up for negotiation."
(On July 6 Walgreens CEO Stefano Pessina reiterated his longstanding prediction that the required FTC divesitures will be around 500 stores and the merger will close before the end of 2016.)
Analyst George Hill of Deutsche Bank wrote in a July 14 note that the simplest answer to who could buy these stores is a competitor of Walgreens, CVS. "We believe the answer could be simpler than most believe: according to our analysis, CVS could take the vast majority of the stores, and has indicated a willingness to absorb stores," Hill wrote in a note. "Beyond that, we believe that smaller chains, regional players and other potential buyers can fill the gaps."
According to Hill, this could add scale to CVS's business in regions where the company doesn't have a high market share.
Halper, however disagreed, noting that CVS would likely cause the same overlap issues the Federal Trade Commission is trying to remedy with divestitures in the first place.
"We think that a lot of these divestitures would occur in rural areas," analyst David Larsen of Leerink Partners said in an interview. "That tends to be where there are fewer stores and that means the market share of Walgreens and Rite Aid would be higher."
Larsen said it is unlikely that CVS will buy divested stores. However, he added that regional chains like Health Mart, Good Neighbor Pharmacy, the Medicine Shoppe Pharmacy, Kinney Drugs, Discount Drug Stores and Lewis Drugs could be potential buyers.
He added that from his point of view, there aren't many other logical buyers other than private equity buyers and the FTC isn't convinced they would provide the support necessary to replace the competition lost by the loss of Rite Aid as an independent player. "The FTC is fearful that the PE guys will buy the stores, cherry pick the profitable ones and close the others," Halper said.
"We also note that private equity buyers might have concerns about the potential exit for an investment in a regional pharmacy chain as historically the exit has been a sale to WBA or CVS, which would likely be more difficult from a regulatory standpoint following a WBA/RAD combination," Hill wrote in a note.
Walgreens is a holding in Jim Cramer's Action Alerts PLUS Charitable Trust Portfolio. Want to be alerted before Cramer buys or sells WBA? Learn more now.
Another concern: the divested stores could be too big for smaller regional or local chains to swallow.
Consider, for example, Haggen Holdings LLC. The private equity-backed company went bankrupt just a few weeks after acquiring 146 grocery stores from Albertson's LLC which were divested as a part of the company's acquisition of Safeway Inc. At the time, industry insiders said the FTC was too tough on Albertson's and Safeway. Could that also be the case for Walgreens and Rite Aid?
According to Halper, Fred's (FRED) , a pharmacy with a $579.48 million market cap, has made public comments that it could be interested in acquiring a package of assets in their markets. Divested Rite Aid stores would be obvious candidates for Fred's.
He added that investors could be less confident about the deal closing, given the amount of time it has taken thus far. The deal hasn't shown much movement, at least publicly, since the announcement that Walgreen's would acquire Rite Aid. This makes investors skittish.
Walgreens initially offered $9.5 billion, or $9 per share in cash to buy Rite Aid. Rite Aid was trading at around $7 per share Thursday.
"The spread on the Rite Aid shares and the offer price has really widened over the past few weeks," Halper said. "We're at a 31% which is very wide."
Still, though, Halper said he believes the two companies will find a way to close the deal before a newly elected president takes office early next year. "There's probably a desire to get this wrapped up before new administration takes over," Halper said, noting that either candidate could affect how the FTC operates once they take office.
Walgreens, Rite Aid and CVS could not be reached for comment on divestitures.
Walgreens, which has a market cap of $90.21 billion, was trading at $83.36 per share Thursday, up 2% from market's open. Rite Aid, which has a market cap of $7.32 billion, was trading at $6.90 per share.









